Why Apollo’s Palace Coup Against Leon Black and Further Disclosures on Jeffrey Epstein Are Not Reassuring

Private equity giant Apollo has been in damage control mode ever since the New York Times broke the story in October that the firm’s co founder and CEO Leon Black had paid at least $50 million and perhaps as much as $75 million in fees to convicted serial child rapist Jeffrey Epstein, long after Epstein had become a pariah.

Some public pension funds, the first being the Pennsylvania Public School Employees’ Retirement System, said they would not be making new commitments to Apollo had ‘splained itself; we understand other funds gave similar messages to Apollo privately. In other words, Apollo had to offer a plausible rationale for Black had been up to or get him out of the picture.

Apollo then launched the usual whitewash, um, internal investigation, even though Black was apparently not convinced of its necessity. The firm announced the findings and its actions on Monday. Even though the intent of these exercises is to put the matter to bed, anyone with an operating brain cell will not be satisfied. The fact that the monies Black paid to Epstein were more than twice as large as the previous high estimate is eye-catching: according to the New York Times, $158 million in fees, plus $30 million in loans, only $10 million of which had been repaid.2

The denouement, that Black is leaving his CEO post sometime before his birthday in July, but will remain chairman, reportedly came after what the Grey Lady depicted as a “brief power struggle over the weekend.” Black will also donate $200 million from his family’s funds to women’s programs.

The shock value of the magnitude of the payments to Black may succeed in diverting press and investor eyes from the real scandal here: what was Black paying for? And was Apollo implicated? Bear with me, because the supposedly reassuring excerpts from the report by law firm Dechert actually suggest that Apollo was involved too.

Recall that the time frame of the fee payments is from shortly after Epstein was convicted, in 2008, through 2016, when Black and Epstein fell out over a fee dispute; Black’s last payment was to Epstein in 2017.1

This is how Dechert attemptsed to justify the transfers from Black to Epstein. From the Wall Street Journal:

Mr. Black “believed, and witnesses generally agreed, that Epstein provided advice that conferred more than $1 billion and as much as $2 billion or more” in tax savings, the report states.

It also supports Mr. Black’s contention that he paid Epstein a fee he believed was roughly equivalent to 5% of the value that the late financier generated on an after-tax basis.

We’ll deal with the second howler first, that someone like Black would pay for mere advice on a percentage of results basis. As Black knows well, the people who get rich to very rich attach themselves to capital and get paid a percentage for performance, such as brokerage or asset management fees. Black, who buys legal services from the very best firms in the US in bulk, would know he could hire the most cunning tax lawyers in the US for a fraction of what he paid Epstein. He could even have financed a firm with the very best minds in the industry for this kind of dough. And in earlier accounts, Black also asserted that all of Epstein’s advice was vetted by independent experts.

So it seems reasonable to think that Black was not paying just for advice but some kind of execution too, as in moving funds and engaging in sham transactions to recharacterize the economic substance or apparent ownership of funds.

So it’s hard to see Dechert with a straight face parroting Black’s defense that he was paying 5% of the economic value of what is presented as mere tax advice as if that were a reasonable compensation arrangement.3

But let’s go back to the first eyepopper: tax savings of $1 billion to over $2 billion.

Let’s be charitable and use Black’s maximum applicable tax rate: a marginal tax rate of about 50% for Federal, New York state and New York city income taxes. That means the amount of Leon Black personal income subject to Epstein’s wizardry, again charitably assuming he managed to find a way to bring Black’s taxes from 50% to zero, would be double the savings, or $2 to $4 billion.

Mere tax deferral isn’t worth much in a near zero interest rate environment, so we’ll rule out those sort of approaches.

And if you assume merely that Epstein managed to turn what would have been ordinary income/short term capital gains into long-term capital gains, again that does not seem to be so insanely rarified that other tax structuring gurus more savory than Epstein wouldn’t be able to come up with similar magic at much lower fees and reputational risk. And that level of tax savings would amount to less than half than if Epstein found some sneaky way to make the taxes disappear entirely.4 So that means you would need to assume an even greater amount of Black personal pre-tax income was subjected to Epstein’s tax legerdemain, on the order now of $4 billion to $8 billion, over eight years.

Let’s go one step further. It is highly unlikely that much of the income was from Apollo, the public company, or the Apollo fund level. Any of the income reported in a 10-K is going to be hard to play with much. And Black and his fellow partners would already have America’s best and brightest tax minds doing their best to assure that as much of the money they get from Apollo, save their salaries, is subject to long-term capital gains treatment.

So where did the at least $250 million a year, and perhaps over $1 billion a year that Black was using Epstein to shield from the taxes come from? Probably from Apollo portfolio companies.

If that’s correct, and we are highly confident that this is correct at least in part if not substantially, Apollo limited partners should be mighty unhappy. We have examples of this sort of thing happening again and again (see the example of KKR Capstone here and a Blackstone affiliate here). Despite the SEC evangelizing about this problem of hidden grifting at investor expense for a bit in 2014 and 2015, nothing fundamental has changed about private equity disclosure about how much in fees and costs they are extracting from portfolio companies, and accordingly, no reason to think that those charges have moderated. If anything, they could have gotten worse given that even more investors are desperately throwing money at private equity.

So if at least some of the Black monies that Epstein was protecting from the tax man came from Apollo portfolio companies, something must have been done to change their character from a tax perspective for there to be tax savings: designating a new payee, sending the monies to a different account and/or changing the claimed purpose of the fee or expense. The latter would have required changes in invoicing or even the legal agreements with the portfolio companies.

The larger point is that nothing like that could have happened without the knowledge and participation of at least some manager or executives at Apollo portfolio companies, as well as the bean-counters at Apollo and the Apollo employees sitting on the pertinent portfolio company boards.

We freely admit that we don’t have proof that anything like these sort of portfolio company level machinations took place. But again, do the math. You just can’t get to this level of tax savings without at least some, and potentially a lot, of the income at issue coming from portfolio companies or other investment fund assets.

1 It’s reasonable to assume that Black stopped or cut way back on his use of Epstein as of the fee row, in 2016; the 2017 payment was likely a settlement.

2 Oddly the Wall Street Journal is reporting only $148 million in fees and no loans, but the Times also has detail on the internal jousting and thus seems to have the better grasp of facts.

3The earlier Times account also had details that showed that Black had made an effort to conceal these payments, which again calls into question “Oh, these were just fees for legitimate services.” For instance:

Some of the payments from Mr. Black are described in an internal report by Deutsche Bank, which served as Mr. Epstein’s primary banker from 2013 into 2019…

Portions of the report reviewed by The Times describe a payment of $22.5 million in 2017 by a company called BV70 LLC, which the bank said owned Mr. Black’s yacht, to Plan D, the company that managed Mr. Epstein’s Gulfstream jet. When an employee in Deutsche Bank’s anti-financial-crime division inquired about the payment, she was told by another bank employee that it was a fee for consulting services provided by Southern Trust Company, one of the dozens of entities Mr. Epstein operated in the Virgin Islands. There was no explanation for why the payment went to Plan D.

The Deutsche Bank report also shows that BV70 made a $10 million donation in 2015 to a charitable foundation started by Mr. Epstein, Gratitude America, which made several million dollars in grants while Mr. Epstein was casting himself as a philanthropist. BV70 also planned to make another payment of $10 million to Mr. Epstein for advisory work, according to the report, although it was unclear if that payment was ever made.

And in 2014, Mr. Epstein received several million dollars in fees from Narrows Holdings, a company that Mr. Black — the chairman of the Museum of Modern Art — has used to purchase much of his billion-dollar art collection, according to two of the people with knowledge of the transactions. The details of the services Mr. Epstein provided in exchange for those fees are also unclear.

Note we do not buy the notion that Black was procuring sexual services. He could have set up his own brothels in Thailand and Eastern Europe and flown there himself for less money and less risk. From what we have heard, no one in private equity thinks so either, and they have active imaginations. They are convinced that the size of payments alone is prima facie evidence that Black was paying for tax avoidance. And they note that Epstein’s Caribbean island was a very close boat ride to the tax haven, the British Virgin Islands.

4 This result is not utterly unprecedented. Recall that Apple had a tax deal with Ireland that achieved the result that a decent chuck of Apple income was attributable to no tax domicile and therefore not taxable. As we explained in 2013, cribbing from tax expert Lee Sheppard:

The consumer products company has an Irish holding company at the apex of its foreign operations. This company is in Ireland and has no employees or operations. But it is the group finance company. And the money is not in Ireland, but in New York banks and managed by employees in Nevada. So the funds are in the US even though they are domiciled abroad. This company has no residence from a tax perspective and pays taxes nowhere.

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  1. fresno dan

    If this story broke in October 2020, after what had been revealed about Epstein, it makes me wonder how many other large firms had similar deals with Epstein – we don’t know what we don’t know. Of course, all of them are doing their best to keep their deals with Epstein confidential, probably as a trade secret /sarc
    And of course, if they really aren’t paying for tax reduction, what are they paying for? I have a great deal of skepticism regarding conspiracy theories, but all this money to Epstein when it doesn’t make any sense. The people who were providing money to Epstein aren’t the kind to spend money out of the goodness of their heart – they were getting something that they thought was very valuable.

    1. Yves Smith Post author

      I seriously doubt that anyone else was. As we indicated, it is simply not credible that what Epstein was offering was mainly or significantly tax advice. Better and cheaper could be procured elsewhere. And no one with any self-preservation instincts would deal with Epstein. Even if you did want to engage in actual tax evasion, there are law firms that do that too, for cheaper, see the Panama papers for starters.

      And it appears that what Black was paying was enough to support Epstein’s lifestyle. I can tell you that there are lots of small professional firms that are highly or totally dependent on one big kahuna client.

      1. disillusionized

        Also provided he was employed for lets say, not legal, tax wizardry, you would presumably prefer him not to have other clients – after all, with lots of clients, risk of discovery goes up, and Epstein would have plenty of people to sell out.

  2. Larry

    The only question is if the PR is enough to be sure no authority will investigate or take action. Of course it is.

    1. Yves Smith Post author

      No action was pretty much a given. I doubt the IRS has the guts to go after Black even though this smacks of tax evasion. And hardly anyone aside from insiders who profit from the practice and independent academic experts like Eileen Appelbaum, Rosemary Batt, and Ludovic Phalippou have a clue as to the extent of what amounts to embezzlement (fees and expenses charged to portfolio companies that are not authorized in the limited partnership agreements). So the probable acquiescence of Apollo won’t even occur to investors or the press.

  3. mrsyk

    Maybe Epstein’s talent wasn’t tax strategy rather money laundering. Those payments smell like marketing fees..

  4. Bob

    The whole Epstein affair stinks.

    It stinks that through an amazing series of coincidences Mr. Epstein died / or was murdered.
    It stinks that the pilot of the “Lolita Express” was not prosecuted under the Mann act.
    It stinks that U.S. Attorney Mr. Acosta has not been disbarred even though Mr. Acosta was reprimanded by a Federal judge
    It stinks that Mr. Acosta’s help mates in the U.S Attorney’s office have not been disbarred.
    It stinks that all of Mr. Epstein’s staff goes unpunished. In particular, the A/V techs who ran the video recording systems.
    It stinks that the FBI raided Mr. Epstein’s properties and caused Mr. Epstein’s properties in Paris, France to be raided after Mr. Epstein’s death rendered / made any prosecution moot.

    And of course it is very stinky / curious that a private equity firm would transfer such large amounts of money to Mr. Epstein’s without a significant return.

    The whole thing stinks.

    1. John A

      The lawyers of Epstein’s accomplice/madame/femme fatale whatever Ghislaine Maxwell, are now claiming she should be set free because ‘she was protected by his plea deal in 2008’. I dont know why she didnt leg it to Israel, they never extradite to the US. Although one theory was that her dad was bumped off by Mossad because he knew too much, and she probably knows a lot about what her dad was up to.


    2. Bob

      As per CNBC POLITICS
      PUBLISHED FRI, JUL 12 20199:39 AM EDT

      “The non-prosecution agreement struck between Epstein and Acosta’s office was also concealed from the victims in the case. A Florida judge ruled in February 2019 that the team of Miami prosecutors led by Acosta broke the law when they hid the deal from the more than 30 underage victims who had allegedly been sexually abused by Epstein.”

    3. Edward

      Acosta told Congress that he was instructed to back off the Epstein investigation because it was “above his pay grade”. Naturally, Congress never tried to find out what that was supposed to mean, but there is more to this story then we know so far. It would be interesting to assemble a list of institutions that have tried to shield Epstein. This would include the press and the Justice Department.

    4. schmoe

      “It stinks that all of Mr. Epstein’s staff goes unpunished. In particular, the A/V techs who ran the video recording systems.”

      Maybe not all: https://celebritiesdeaths.com/death-dead-obituary-cause-of-death-epsteins-former-personal-chef-has-died-in-his-sleep-just-as-he-was-to-be-deposed-in-a-legal-case-maria-farmer-claims-chef-andy-stewart-had-tons-of-damnin/

      This death was about 2 months after a lengthy interview between Whitney Webb and Virginia Farmer was posted on Youtube wherein Virginia said his chef knew everything.

  5. Fraud Guy- Also

    It seems like the entity names involved in these transactions point to the British Virgin Islands. There’s Black’s entity that paid Epstein “BV70 LLC,” where “BV” is the first two letters of the common abbreviation “BVI” for “British Virgin Islands.” Then there is “Narrows Holdings,” where the body of water that separates the U.S. Virgin Islands from the British Virgin Islands is called “the Narrows.” This is the very small body of water (just a few miles) Epstein would have had to traverse in a boat if part of what he was doing was flying suitcases of cash on his private plane to his U.S. residence private island (no customs inspection necessary), then putting the suitcases on a small boat to carry over to a BVI beach, where the money could then be walked into secret accounts at BVI banks.

    1. David in Santa Cruz

      Yes, this all looks like money laundering to me. More than tax avoidance. Outright tax evasion. Also hiding proceeds and assets from Limited Partners, who are entitled to a share of them. The mechanism is still unknown, but a Gulfstream jet transferring suitcases stuffed with actual cash to a speedboat isn’t that outlandish in the fantasy world these boy-men seem to inhabit.

      There is no way that this sort of shenanigans wasn’t widly known at Apollo, their portfolio companies, and at their auditors.

      Those poor girls weren’t the only ones being lured into exploitation…

      1. Yves Smith Post author

        Tax evasion is not money laundering. Money laundering involves the proceeds of a predicate crime, like drug dealing. Leon Black personally would be a very unlikely person to solicit for money laundering. Why would he want the cut from moving dirty money into accounts and the risks involved in dealing with large scale criminals if they were to become unhappy with him?

        Epstein alone, with his Caribbean location and flamboyant lifestyle, would by contrast be in a position to money launder, and given his fallen position post 2008, that could have been an additional source of income for him.

        Private equity firms are also not appealing to money launderers. $50 million would be a very big number for a money launderer, while it verges on a couch-lint-level commitment to an Apollo fund. And no money launderer would want his money tied up for 10 years. The IRS even deems hedge funds unlikely to be involved in money laundering because their typical three month to as long as two year notice provisions for liquidating fund holds are way way too restrictive. Criminals want access to their money.

        1. David in Santa Cruz

          Yves, please excuse me if I misunderstand, but I fear that you may be parsing a very narrow reading of the term “Money Laundering,” limiting its use to a quite narrow reading of the long list of “specified unlawful activity” in 18 USC 1956, referred to by the U.S. money laundering statute. Setting aside for a moment the fact that there exists a rather lengthy catch-all list of qualifying crimes found at subsection (c)(7)(D), I must respectfully insist that the term “Money Laundering” is appropriate here as it is used in the common parlance.

          I am not referring to the technical and statutory definition of the term, although my personal view is that it may also apply. I am using the common layperson’s definition of Money Laundering:

          …the process of concealing the origins of money obtained illegally by passing it through a complex sequence of banking transfers or commercial transactions.

          I am suggesting here that secretly siphoning-off fees and even assets of portfolio companies which should rightly shared with Limited Partners is Theft by Fraud, and that jetting and boating the cash to secret BVI bank accounts is “Money Laundering” in the common understanding of the term.

          1. Yves Smith Post author

            I have to differ because I am in finance and the notion of money laundering is in fact well understood among people in tax and banking. It involved the proceeds of a predicate crime.

            Anti-money laundering and related “know your customer” provisions are a big deal and banks spend a lot of horsepower on them and are subject to serious fines when they run afoul. It’s one of the rare areas where execs have even been forced out (see Standard Chartered).

            It discredits the site to use nomenclature improperly.

            By contrast, the sort of grifting (flagrant contractual violations) that PE firms engage has been widely publicized. Recall the raft of articles in the New York Times and Wall Street Journal in 2015, as well as the brief bout of SEC finger-wagging and fines. We were also very much involved in amplifying these stories, adding further technical detail, as well as doing some original reporting of our own.

            No one has suggested they are criminal acts (even though I think they should be considered embezzling). No prosecutor at any level has gotten out of bed on this issue. The investors are even well aware of these abuses and do nothing.

            So this sort of misconduct is as common as speeding and sanctioned even less. Why would Leon Black get in bed with a guy like Epstein and pay him huge fees PERSONALLY to hide conduct of his firm that everyone considers to be a nothingburger?

        2. none

          Why would he want the cut from moving dirty money into accounts and the risks involved in dealing with large scale criminals if they were to become unhappy with him?

          HSBC was willing to do that stuff on a 10 figure scale. Is Apollo different?

          1. Yves Smith Post author

            Are you serious?

            HSBC had an existing branch network. Taking the illicit money required absolutely nothing in the way of new infrastructure or even staffing. They just had to sit back and look the other way. In fact, it’s less work to file inaccurate customer reports showing nothing is amiss than accurate ones that flag suspect activity.

            Banking is also a very low margin business, with a high base of fixed costs, so any incremental income looks attractive, plus the individuals involved are pretty sure not to be prosecuted.

            To launder money, you get the proceeds of a predicate crime INTO a bank. HSBC is a bank.

            By contrast, in case you missed it, Leon Black is not a bank. On top of that, unlike a retail bank, he does not deal in small transactions. Neither does Apollo. And private equity is the most lucrative business going. So the economic incentives are absent.

            Black dealt with Epstein personally. Black makes hundreds of millions a year from Apollo funds, and that’s before getting to our pet theory that he and the top partners may take the portfolio company fees directly, meaning tens to hundreds of millions on top of that.

            Absolutely no one thinks your notion makes any sense. Even the IRS, which isn’t the brightest set of bulbs, has worked out that money launderers don’t work with PE funds or even hedge funds, which are way more liquid than a PE fund but not liquid enough for criminals.

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